Stephanie Flanders argues on the BBC website that the biggest difference between the economic crises in the UK and Ireland is that the UK has its own currency while Ireland does not.
“Robert Peston is right to remind us that Britain’s mistakes, in the boom years, were different in scale to Ireland’s – but not in kind. The biggest difference is that we did not choose to join the euro.”
But, in the case of a bubble, scale is everything.
The British housing market has problems that will take a decade to work out, given that prices rose to an unprecedented multiple of earnings and that people borrowed enormously in order to pay them. House prices will be stagnant for some years until underlying trend prices (i.e. inflation) catch up with where market prices are now. House prices tend not to fall precipitously in the way that shares and bonds might, because they are not only investment assets to be bought and sold but also physical assets that people live in. If the price falls too far, the owner keeps it and carries on living in it rather than selling it at a loss.
In Ireland, though, the housing market’s problems are much, much worse. There is an oversupply of something like 25 per cent in the housing market (see a film on the consequences of this here http://news.bbc.co.uk/1/hi/world/europe/8652768.stm), which is very different to the experience in the UK (where there is generally considered to be a shortage) and, furthermore, that surge in the supply of housing brought with it an unsustainable boom and unhealthy dependence on the construction industry and on housing finance for the whole economy.
To put this into a British context, imagine if, over the past ten years, the central feature of the British economy had been to build a replica of London – Greater London, that is, not only the City – somewhere else in the country and keep it empty. Think of all the resources that would have been devoted to this, think of the other potential uses of those resources that would have been starved in order to build this folly. Remember also that the reason for building this copy of London was the belief that property prices were going up, so that all the existing property in the UK would also have been rising rapidly in value.
If someone, ten years ago, had proposed such a scheme of the UK, they would have been dismissed as mad. But that is, in effect, what has happened in Ireland.
It is no good blaming the Irish experience simply on the low interest rate when there are plenty of other policy tools – planning regulations, property taxes – that could have been used and were not. There was a monumental failure of regulation in Ireland. And when virtually everyone in the country is embarked on the same crazy investment strategy, a private sector problem becomes a public one.
Think of the previous examples in history of private sector investment gone wrong on a national scale. Tulip mania in the Netherlands in the 1630s, for example, or the South Sea bubble of 1720, were private sector phenomena that caused terrible damage to the wider economy.
Or perhaps a parallel is with the Scottish colony of Darien established in 1698. Something like one fifth of the private wealth in Scotland was committed to a new settlement in the isthmus of Panama, a settlement that failed when overtaken by disease, poor leadership, and hostility from the Spanish who also claimed the same territory.
The failure of the Darien scheme, and the ruination of many Scottish families, was one of the factors that led to the Act of Union between England and Scotland in 1707: the Scots were desperate for help. Private sector financial folly can have public, and even political consequences.
That is what we are seeing in Ireland now (and have seen in Iceland already). It is not a matter of the interest rate, nor the denomination of the currency, but of foolish economic practices carried to extremes. The fact that Ireland’s public finances, unlike those of Greece, conformed to the rules of the Stability and Growth Pact does not deserve the sympathy that Stephanie Flanders seems to believe. Membership of the euro did not and does not guarantee economic success: it is necessary also to get other economic decisions right.